Gov. Newsom outlines California economic risks: War, high interest rates, supply shortages

Russia’s invasion of Ukraine, supply chain bottlenecks and runaway inflation mean risks to California’s economic health “have been heightened,” Gov. Gavin Newsom’s new budget said Friday.

The administration said in its economic forecast that growth predictions have been “slightly downgraded” since its last report in January. A big downturn, it warned, could have “important consequences for the Administration’s revenue forecast.”

Newsom Friday unveiled a $300.6 billion spending plan, aided by a projected $97.5 billion surplus.

Since the January budget, economic conditions have deteriorated, sometimes brutally. Financial markets have been reeling, consumer confidence has sunk, gasoline prices have hit record highs and other prices are rising at their fastest pace in 40 years.

Newsom had assumed interest rates would not go up until 2023, but the Federal Reserve has implemented two increases in the last two months, and more are expected this year.

Mortgage interest rates are now averaging above 5.5% for a 30-year loan, up from 3% from the start of this year.

The new budget saw California consumer prices going up 6.8% this year, well above the 3.8% predicted in the last budget proposal.

Consumer confidence in the economy, measured by the University of Michigan Consumer Sentiment Index, has plunged 28.7% nationally in the last year.

There was some good news: California unemployment, projected in the last budget to average 5.6% this year, is now forecast to reach 4.7%.

And the budget predicts “the ongoing pandemic will not lead to any further major disruptions to the economy.”

War and the economy

What the previous forecast couldn’t see was therussiaukraine war that’s now at the root of many of the risks.

The war, which began in late February, “is estimated to have a moderate drag on economic growth in the near term,” the budget says.

Not only might the war help keep food and energy prices up, but it could disrupt the already-strained supply chain system.

“These recent events in Ukraine, as well as COVID-19 lockdowns in China, are expected to delay the resumption of normal supply chain operations by several quarters compared to what was assumed in the governor’s budget,” the new budget document said.

Should the war go on at length, the risks increase, said an analysis from Moody’s Analytics, an economic research firm.

Moody’s, which studies state and regional economic trends, warned last month that in its “lengthy conflict” scenario, the state’s economy would not grow next year at the projected 2.8%.

If the war persists, Moody’s predicted the Northeast and California “are a bit more vulnerable to a scenario in which the war drives a sharp contraction in Europe. The impact on tourism and finance puts those parts of the country in a vulnerable position should the global economy begin to suffer more dramatic losses.”

Prices and pain

Californians have been feeling the economic pain for a while.

The state’s unemployment rate in April was 4.9%, still higher than the national average of 3.6%, though well below the state’s 8.4% a year earlier.

The “Back to Normal Index,” compiled by CNN Business and Moody’s, says California’s economy is 92.2% back to where it was before the COVID-19 pandemic began in March 2020. That ranks 38th among the states. The national average is 94%.

Energy prices continue to climb. The average price of a gallon of regular gasoline in the state Friday was $5.87, and in Sacramento, $5.83, according to AAA.

There seems to be no end to the gasoline price increases in sight.

“We can already see $6 per gallon prices here and there. As long as the Ukraine war continues and the Saudis are not willing to pump more oil, high prices will continue,” said Sung Won Sohn, president of Los Angeles-based SS Economics, an economic consulting firm.

He saw no indication that Californians are driving less, so “during the summer driving season, the upward pressure on gasoline prices will increase.”

Newsom did see a path to better days ahead.

“There are various reasons why the economy may perform better than projected in the May Revision forecast,” the budget says.

Inflation could ease as supply chains become more robust. The Ukraine-russian war could end. Tourism could pick up, and a change in tariffs on imports from China and elsewhere could spur trade.

“A faster-than-expected easing of supply chain constraints could help alleviate inflationary pressures and support even stronger growth in economic activity,” the budget says.